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Circular 19, the State Administration of Foreign Exchange (“SAFE”)’s latest major step to liberalize restrictions on foreign exchange settlement for foreign- invested enterprises (“FIEs”) nationwide, introduces the following three changes:

An FIE will be entitled to convert the foreign currency in its capital account into RMB at any time, without presenting documentation to certify the business need. This policy was initially launched in the Shanghai FTZ in early 2014 and subsequently adopted and implemented in another 16 industrial parks in different regions of China.

For the time being, FIEs are allowed to settle 100% of their foreign exchange capital on a conversion-at-will basis, but SAFE may adjust this percentage as appropriate based on China’s balance-of-payments situations.

Although Circular 19 allows FIES to freely convert their funds in the capital account into RMB, the converted RMB funds will be centrally managed under a separate and specific account for foreign exchange settlement and pending payment, and FIEs will still need to provide supporting documents and go through the bank’s review process for each withdrawal, certifying the valid use of the funds on an as-needed basis.

Circular 19 further states that an FIE is not allowed to directly or indirectly use the converted RMB funds for the following purposes:

Expenditure beyond its business scope or prohibited by state laws and regulations.

Investment in securities, unless otherwise prescribed by laws and regulations.

Granting RMB entrusted loans (unless permitted under its business scope), repaying intercompany loans (including third-party advance payments) and repaying RMB bank loans that have been sub-lent to third parties.

Purchase real estate not for self-use, unless the FIE qualifies as a foreign-invested real estate enterprise.

Banks can choose not to request FIEs to provide documents proving the payment is valid when they use capital in the name of imprest cash. Under Circular 19, the cumulative monthly payment of imprest cash for a single FIE must not exceed the equivalent of RMB 100,000 (under the former regulation the threshold was RMB 50,000).

Circular 19 seems to enable all types of FIEs to make equity investment in China by using the RMB funds converted from their capital accounts, while the current SAFE regime prohibits non-investment FIEs from using the converted capital funds to carry out re-investment in China. Circular 19 provides as follows:

Where an investment FIE uses the foreign exchange capital for equity investment in China, it is allowed to directly settle its foreign exchange capital or transfer the RMB funds in the account for foreign exchange settlement and pending payment to the account of the target company.

Where a non-investment FIE uses the foreign exchange capital for equity investment in China, the domestic target company must first register for domestic re-investment with the local SAFE and open a bank account for foreign exchange settlement and pending payment with a bank. The investing company can transfer the converted RMB funds from its capital account to the foreign exchange settlement and pending payment account.

However, the rule’s wording is vague on this point, and although it describes the SAFE’s formality for ordinary FIEs to make equity investments, it also states that the converted RMB may only be used within the FIE’s business scope. It is unclear how the authorities (MOFCOM and SAFE) and the banks will interpret Circular 19 in practice when it enters into force in June.

The main benefit from Circular 19 is that FIEs can hedge their exchange risks by converting foreign currency in their capital account when the exchange rate is favorable, as well as the increase of the threshold for imprest cash use. However, some issues still need to be clarified before its benefits can be confirmed. For example, whether, in practice, re-investment carried out by non-investment FIEs will trigger the expansion of their business scope as required by authorities such as MOFCOM and AIC.